Plus Plan might turn to minus

EUROLIFE, an insurance company specialising in the construction of high-income stock market bonds, will unveil its latest offering on Friday. The sexily titled Blue Chip Plus Plan offers lucrative annual income of 10.5% tax-free over three years.

It is bound to prove popular with sales-hungry independent financial advisers eager to make up for the loss of business from falling stock markets and keen to exploit savers' disillusionment at the low interest on offer from building societies.

Also, the opportunity to earn up-front commission of 3.5% on every sale of at least £7,000 - the minimum investment that Eurolife will accept - will be too hard for many advisers to overlook, especially if they are recovering from expensive family summer holidays.

Yet no one, and I mean no one, should jump into Blue Chip Plus Plan simply because an adviser says they should and because double digit income is on offer. In fact, Blue Chip Plus Plan could be more a case of 'you've had your chips'.

The mechanics behind the plan are a little complicated.

The income payments of 10.5% tax-free, if held inside an Isa or as a Pep transfer, are assured. What isn't is the amount of capital that investors will get back in October 2004.

This depends on the performance of the top 10 FTSE stocks - the likes of BP, Glaxo, Barclays, Vodafone and BT - over the next three years.

Eurolife says that provided the 'final level' of each and every stock, based on an average of closing prices on three specific dates - August 13, 2004, September 13, 2004 and October 12, 2004 - is a minimum 80% of the opening level (closing price on October 26, 2001), then investors will get back 100% of their capital.

But investors will not see the value of their capital rise if the shares advance over the three-year period. All this seems fine until you read through the small print of the product literature to find out exactly what happens if one of the 10 companies' shares falls in price by more than 20%. The answer is not very nice.

For each 1% fall beyond 20%, an investor's entire capital is eroded at a rate of 0.625%.

So, for example, if BP's 'opening level' was £5 and its 'final level' was £3, the 40% fall in the share's price would translate into an overall capital loss for a Blue Chip Plus Plan customer of 12.5%.

In other words, on an initial investment of £7,000, capital of only £6,125 would be returned.

If two stocks were to fall by 40%, then Eurolife investors would see their capital fall by 25%. So a £7,000 investment would return capital of £5,250.

Ian Lowes, technical director of adviser firm Lowes Financial Management in Jesmond, Newcastle upon Tyne, is one expert who is not impressed with Eurolife's latest offering. He has carefully gone through the technical detail behind Blue Chip Plus Plan and says that some of it has made his hair stand on end.

He said: 'This stock market bond is linked to just 10 shares and as such carries a significantly increased risk compared with similar products that are linked to a specific index.

'With an index-linked plan, if a particular stock under-performs, it will fall out of the index and be replaced by a rising star. The impact on the plan is marginal.

'But with a plan linked to a basket of stocks rather than an index, an under-performing stock will drag down the plan's capital value.'

Lowes adds: 'Previous stock market bonds linked to a basket of shares have, in the main, split the contract into 30 different segments. This means that if one stock's price falls by more than the level required for capital losses to be incurred by the investor, it will only impact on a 30th of the invested capital.

'With Eurolife Blue Chip Plus Plan, this is not the case. If one share falls by more than 20%, it affects the investor's entire capital. So eight of the 10 stocks could storm ahead over the next three years, but if the other two have fallen out of favour and end at 60% of their original value, investors will lose 25% of their capital.'

Eurolife Blue Chip Plus Plan is not necessarily a bad financial product. At a time when interest rates are 5% and a whole collection of building societies and banks are yet again shaving savings rates closer to the bone, the prospect of earning 10.5% gross for the next three years is appealing.

But before you sign up, be sure you understand 100% the possible downside. Otherwise, you could be jumping out of the proverbial frying pan.